Budget - Expectation v. Prediction
The annual budgeting process is here again. Basically everything in the company which incurs a cost is supposed to be scrutinized, with the cost element contained by as much as possible. On the other hand, all revenue sources are to be exploited, with the income expanded by as much as possible. No doubt, the simple formula of revenue minus cost must yield a reasonable number which is supposed to justify the shareholders' investment in the company.
But more often than not, indeed almost surely, actual performance will hardly turn out to be those as budgeted, and only to be reasonably explained away whenever a discrepancy shows up as time goes by. Of course it doesn't mean that one can simply treat budgeting as a routine exercise casually. Far from it, in fact, quite the contrary. On this note, I recall the teaching of an Insead's professor (Kevin Kaiser), that a budget should reflect the manager's "expectation", as opposed to "prediction", of what those numbers should be. It means, though not exactly in these words, that the manager should put in such numbers which he reasonably expects to be the most probable outcomes in consideration of all foreseeable factors in his knowledge and, accordingly, he should plan and endeavor to deliver those numbers as history unfolds. Prediction, on the other hand, has no ground, and is no different from humbug and whims.
Kevin also produced a thought-provoking punch line: the only reliable prediction one can possibly make is that all expectations in a budget, no matter how well-conceived, will almost certainly turn out to be wrong - in the sense that the actual performance will always differ from the budgeted amount.
So it is not the accuracy of the budget, but the process itself, which is important. And it is the honesty of expectations and the endeavors to meet those expectations which underlie the integrity of the whole system. In reality, however, the whole process is inevitably about anticipation, bargaining, interrogation, coercion and arbitration, perhaps even tinged with some game theories. The paradox is that, in the commercial world, the numbers don't always speak for themselves - they can be elusive, ie, subject to interpretation.
In any case, budgets form the backbone for allocation of resources within a company. And the process is as much one of management practice as an art form - of how the intricacy of expectations makes up a unified big picture.
But more often than not, indeed almost surely, actual performance will hardly turn out to be those as budgeted, and only to be reasonably explained away whenever a discrepancy shows up as time goes by. Of course it doesn't mean that one can simply treat budgeting as a routine exercise casually. Far from it, in fact, quite the contrary. On this note, I recall the teaching of an Insead's professor (Kevin Kaiser), that a budget should reflect the manager's "expectation", as opposed to "prediction", of what those numbers should be. It means, though not exactly in these words, that the manager should put in such numbers which he reasonably expects to be the most probable outcomes in consideration of all foreseeable factors in his knowledge and, accordingly, he should plan and endeavor to deliver those numbers as history unfolds. Prediction, on the other hand, has no ground, and is no different from humbug and whims.
Kevin also produced a thought-provoking punch line: the only reliable prediction one can possibly make is that all expectations in a budget, no matter how well-conceived, will almost certainly turn out to be wrong - in the sense that the actual performance will always differ from the budgeted amount.
So it is not the accuracy of the budget, but the process itself, which is important. And it is the honesty of expectations and the endeavors to meet those expectations which underlie the integrity of the whole system. In reality, however, the whole process is inevitably about anticipation, bargaining, interrogation, coercion and arbitration, perhaps even tinged with some game theories. The paradox is that, in the commercial world, the numbers don't always speak for themselves - they can be elusive, ie, subject to interpretation.
In any case, budgets form the backbone for allocation of resources within a company. And the process is as much one of management practice as an art form - of how the intricacy of expectations makes up a unified big picture.
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